Venezuela Is Moving From Crisis To Collapse

Venezuela’s slumping oil production is a “clear and present danger” to the oil market, RBC Capital Markets said this week.

Venezuela’s production continues to fall at a frightening clip, falling to about 1.6-1.7 million barrels per day (mb/d) in December. On an annual basis, Barclays predicts that Venezuela’s output will fall sharply from 2.18 mb/d in 2017 to just 1.43 mb/d this year, a decline of roughly 700,000 bpd.

The steep declines will increasingly be felt worldwide given that oil demand is growing briskly and the OPEC/non-OPEC coalition continues to keep 1.8 mb/d of supply off of the market. Global inventories have declined so steeply that unexpected geopolitical surprises carry more influence than they used to.

“We continue to contend that, given 2018's tightening oil market, any potential geopolitically driven supply disruption would have an outsized impact versus recent years when the market was awash in crude,” Helima Croft, head of global commodity strategy at RBC Capital Markets, wrote in a research note. “The clear and present danger to watch is Venezuela, which arguably has progressed past the risk stage given that production is in freefall.

RBC Capital Markets echoed Barclays, predicting output declines on the order of 700,000 to 800,000 bpd.

While that scenario is really bad, the uncertainty for the country’s output is probably skewed to the downside. The economic, political and humanitarian crisis is only getting worse. The government is in a debt vice, and it is hard to see how it will meet payments this year. The IMF predicts that inflation is running at a 13,000 percent annual rate. GDP is expected to shrink by 15 percent this year.

Meanwhile, the U.S. government is considering actions that would exacerbate Venezuela’s predicament. The U.S. Secretary of State traveled through Latin America trying to drum up support for tighter sanctions on Caracas. He even floated the possibility of a U.S. ban on imported Venezuelan oil. The idea has not been finalized and it could take several forms, including using financial sanctions to target Venezuela’s exports, barring Venezuelan shipments into the U.S., or prohibiting U.S. exports of the diluent needed in Venezuela to blend with heavy oil. All of those measures would have a serious impact on Venezuela’s ability to produce and export oil.

Tillerson is trying to work with Canada and Mexico to develop a “working group” that would “mitigate” the losses to the Caribbean from an embargo on Venezuelan oil. It is unclear how Tillerson expects a country like Mexico, where production is still falling, to make up for a supply shortfall in the region by action against Venezuela.

Moreover, such a drastic move would likely force Venezuela’s economy to lurch from crisis to outright collapse.

Yet, Tillerson seems intent on proposing sanctions, possibly even an embargo, on Venezuelan oil. “I don’t want to get into specifics because we’re going to undertake a very quick study to see if there are some things that the U.S. could easily do with our rich energy endowment, with the infrastructure that we already have available what could we do to perhaps soften any impact of that,” Tillerson said at a news conference in Jamaica. He said he would take the matter to President Trump, who has been supportive of tougher action against Caracas in the past.

Tillerson also recently raised the prospect of a military coup in the country. "There will be a change in Venezuela. We want it to be a peaceful change," Tillerson said on February 1 at the University of Texas-Austin, before his Latin American tour. He cautioned that the Trump administration was not advocating regime change, but the comments certainly raised eyebrows. "Peaceful transitions, peaceful change is always better than the alternative. In the history of Venezuela and other South American countries, often times it is the military that handles that,” he added.

One date that looms on the calendar is April 22, which is when the government says it will hold a presidential election. Few expect it to be free and fair, and many countries, including neighboring Colombia, have said they would not recognize the results.

Against this backdrop, the predictions from oil market analysts of a decline in Venezuelan oil production by several hundred thousand barrels per day seems optimistic. There are numerous landmines that could explode that could push output down much further than expected this year.

And with global oil inventories shrinking back down to average levels, there is much less room for error. “Prices will be susceptible to upside spikes if there are any geopolitical outages because we just don’t have a buffer anymore,” Amrita Sen, chief oil analyst at Energy Aspects, said on Bloomberg TV on February 7.